The cold storage sector of industrial real estate now represents a more than $98 billion market globally and is projected to have a compound annual growth of 12.1% through 2025. But as investors warm up to the cold storage sector, prices for assets are on the rise, due to undersupply.
We caught up with Colliers’ International’s Food Advisory Services Group of Chris Cummings, Turner Wisehart, Sam Campbell and Cater Corley to discuss the emerging cold storage asset class as we enter 2021.
Q. How has the coronavirus changed market dynamics in the industrial sector? How have these changes impacted cold storage specifically?
A. U.S. industrial property fundamentals have remained healthy, despite pandemic-driven uncertainty in other sectors. Net absorption is positive with occupancy gains of nearly 165 million square feet through the third quarter of 2020. Specifically, the cold storage and food sector, as opposed to traditional industrial space, has seen an influx of interest from institutional capital sources who view the asset class as a means to potentially achieve higher yields on their mission critical infrastructure and “pandemic-proof” real estate investments.
Communities watched as restaurants, bars and “food-away-from-home” dining options (hotels, arenas and events) were forced into shutdowns or reduced to takeout and delivery operations this year. While this has put immense strain on those industries, what we have noticed is that consumption on a macro level has not changed, just the venue. In a relatively short period of time, the grocery supply chain has been forced to pivot distribution and warehousing strategies to meet this increased demand from consumers.
Q. What are some of the current trends surrounding cold storage? Will these trends continue post-pandemic?
A. At Colliers, we like to say the e-grocery industry was accelerated by five to seven years in a five- to seven-month period due to the coronavirus. Consumers who were dabbling in e-grocery before the pandemic have fully adopted the practice now, while many consumers who never would have adopted e-grocery will use the method post-pandemic. Convenience factor aside, online food buying reduces risk of exposure as COVID continues to play a central role in our lives. Looking forward, we anticipate overall sales will remain elevated above pre-pandemic levels, but they will not transpire at the current rate. As online grocery shopping grows, a greater percentage of fulfillment would have to come from refrigerated warehouses to keep up with demand.
Speculative cold storage development is another trend that has emerged as a result of the pandemic. It has never occurred in the past due to extremely high construction costs (two to four times a traditional industrial building) coupled with the fact that every food user requires different specs in their building. That being said, the current lack of supply is leading some investors and developers to take on the speculative cold risk. Colliers knows of around 12-15 projects that are being contemplated across the country at the moment.
Q. Describe the demand and dynamics surrounding cold storage and food distribution pre-pandemic. How has the pandemic accelerated or reinforced these trends?
A. The vacancy rate of cold storage buildings across the U.S. is less than 2%, which translates to virtually no supply of usable, modern space for prospective food users. Pre-pandemic, there was already minimal supply of existing cold space available on the market. Now, there is almost no remaining supply, as a result of a run on available product.
Many online grocery shopping methods that have risen considerably in popularity this year, such as “Click and Collect” and “Buy Online Pickup In Store” (BOPIS), were introduced to the grocery supply scheme in 2017 when Amazon acquired Whole Foods. Many anticipated an “Amazon Effect” to take place in the grocery category as a result of the acquisition, but third-party fulfillment via Instacart and Shipt served as Whole Foods’ primary e-grocery fulfillment services. Still, the acquisition served as a major catalyst in the institution of “Click and Collect,” BOPIS and direct-to-home delivery. The Food Marketing Institute and Nielsen predict that groceries ordered online will account for 13% of total grocery sales by 2022. COVID’s rapid onset and spread throughout the United States challenged grocers to swiftly transition to online platforms, if they weren’t using them already, and accept an e-grocery reality.
Q. Why the sudden interest from investors in cold storage facilities and food distribution centers?
A. Over the course of the last 12 to 18 months, cap rates between normal dry warehouses and cold storage and food distribution facilities have significantly compressed due to large institutional owners wanting to enter the space. Cold storage was once considered to be “risky” amongst the big institutional players like Blackstone and USAA. Now these investors are chasing deals across the country and looking to invest further in the space to diversify their overall industrial portfolio. As an asset class, cold storage and food production is considered “recession proof” as consumer demands for fresher food, faster and higher quality food have become the norm and are rapidly changing.
Q. What are the risk factors and benefits associated with investing in cold storage?
A. Our team thinks of food distribution buildings as living, breathing assets due to the 24/7 nature of the refrigeration system that keeps buildings cold, similar to the way investors view data centers. Because these assets are “always on,” so to speak, and the infrastructure is very expensive, it is easy for major problems to occur if cold storage buildings are not taken care of properly.
From a development point of view, the cost to build a cold storage or food distribution building can be two to four times the cost of a traditional building. Moreover, unless developers design cold storage buildings for specific end-users, it is impossible to know the exact needs of future tenants. For instance, there is a drastic difference in what is required to keep a space at frozen temperatures of -10° F versus cooler temperatures of 34° F, and then there is an entirely different layer of complexity (and cost) for food manufacturing and processing uses.